Date: 2014-04-02
Contrarian death
This world could not possibly be filled with contrarian geniuses. Logically, such a situation would not materialize, because the definition of the word 'contrarian' implies that there will only be few of them. However, there are so many people who claim to be contrarian investors. There is only one way to correctly interpret this phenomenon. Most of them mistakenly believe that they are.
Well, in fact, contrarian bets are tricky to assess, because they are not supposed to be permanently contrarian. They just want to get into the trade before something considered contrarian eventually becomes a consensus-view. This could take some time to materialize, and by the time you take the profit, your trade might be in line with the consensus-view. For this reason, it is easy for even the experienced contrarians to mistakenly believe that they are being a good contrarian when in fact they are not.
In any case, the price of falling into this trap is very high: (1) If you read the consensus wrongly, you lose; (2) If you got your contrarian theory wrong, you lose; (3) Even if you get the theme right, if your timing is off, you are also likely to lose. Contrarian death is even more painful than the normal form of death that is par with the market, as no one sympathizes with you and you lack systemic support as you try to recoup the losses. Therefore, I would love to avoid falling into this trap. That's why I decided to sit and think about this topic.
It seems to me as those who market themselves are contrarians do so essentially for their own good. Especially for the managers, it is easier to market themselves after successfully executing a profitable contrarian trade (often shorts) than an equally profitable trade based on a consensus-view (often longs), despite the fact that bull-market, which is a long-term consensus-view of investors who are hopeful humans, tends to last longer (so the managers suitable for bull-markets are pretty useful) and it is not easy to beat the index (so it does take talent to make money even in the bull-market). Because the profit from successful contrarian trades tend to spread out within a relatively short span of time, the return per period could appear very impressive if you play with a specific crisis period or even that whole year. This way, you really stand out because it seems as if you outsmarted most others.
In fact, this boils down to the manager's integrity issue. Well, I know what I am thinking so it's ok. I just need not to forget to secure my liquidity. The trouble is, if I am at some point in the position of managing a number of managers, and if there are some who are stubbornly against the market, it is very tricky to assess whether or not his view is formed soundly or out of his skewed risk-reward calculation regarding his career as a manager. This would really be tough for me, because there always are possibility of the outbreak of something that can revert the ongoing trend, so their arguments would most likely sound valid. My conclusion is that, if a manager outperformed the market with contrarian approaches couple of times and built fame and good return, it would still be silly to pay premium to take him into the fund, unless the marketing effect is expected to be very positive to the fund.